Calm before storm as blue chips get ready to blow

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The fall in crude oil prices pushed along last week's rally on Wall Street.Photo: AP

The fears that were weighing down world markets are
fading, writes Richard Webb.

Shares are at their cheapest level in more than 10 years, based
on the market price to earnings ratio, and are primed to climb to
record levels in coming months, stock experts say.

They predict the market rally will be led by blue chip stocks
and driven by solid underlying share and economic fundamentals.

According to FW Holst senior investment adviser Michael
Heffernan, the indicators for shares are all pointing in one
direction - up. While the market is expected to make a cautious
start tomorrow, following a flat lead from Wall Street on Friday
night, over the medium term, he says, shares will soar.

"We are going to do very well," he said. "The fundamental
underlying the sharemarket is the robust economy and cheap
valuations and this will push the market to record levels over the
rest of this year."

The ASX's reading of the overall sharemarket's price to earnings
(P/E) ratio fell to 13.94 at Friday's close, the first time it has
fallen below 14 in a decade, according to CommSec chief equities
economist Craig James. The P/E is a measure of how much you pay for
a share in a company compared to the net profit it has generated
for every share it has on issue.

"The market P/E has fallen because we have had some strong
interim results from the banks and a few other companies and the
sharemarket has not kept pace," Mr James said. "That means our
market has become super cheap. It creates a very good story for
investors."

Mr James said shares were close to 20 per cent below their
decade average P/E of 17.4.

AMP Capital Investors head of investment strategy Shane Oliver
said the three major global issues that have caused shares to
falter since Easter - inflation concerns, rising interest rates and
the rocketing oil price - have all started to wane.

"Last week we saw that the US economy had slowed, but was not
collapsing, and this has taken the heat out of inflation. The
underlying inflation rate in the US, excluding food and energy, was
flat," he said. "Increasingly, people are starting to think that
the Fed may be almost done lifting rates. There might be one or two
more to come, but investors are saying, if the Fed gets to 3.5 per
cent and calls it a day then that's no problem. (US rates are now
at 3.0 per cent.) There have been some fears that it would have to
go much higher than that."

Dr Oliver said much was starting to look rosier on the domestic
front as well.

"Consumer confidence rebounded last week, the retail sales
figures were revised up and we got a few positive company reports,"
he said. "We could go through a bit more volatility, but I think we
are positioned for a decent market bounce."

Mr Heffernan of Holst expects that blue chips will lead the
sharemarket higher from here.

"Last year it was the mid-caps that did well and the blue chips
didn't perform as strongly, but I think this year it will be the
reverse," he said. "The top stocks will act like a magnet dragging
the whole market higher."

CommSec's Mr James said this was already becoming evident, with
the S&P/ASX200, which tracks Australia's top 200 companies, now
at its widest gap in three years above the All Ordinaries, which
tracks the entire sharemarket.

"Investors perceive that it will be the larger companies that
will outperform the smaller companies in this kind of environment,"
Mr James said.

However, all said the surge in shares was unlikely to start
tomorrow, and they expected the local market would open flat to
slightly higher.

Wall Street finished flat on Friday night which, according to
AMP's Dr Oliver, was a reasonable outcome given that the US
sharemarket had already risen 3.3 per cent for the week, its
strongest weekly rally in six months.

The continued fall in crude oil prices was one of the drivers
powering Wall Street higher last week, Mr James said. Oil finished
4.2 per cent lower for the week at $US46.80. "Oil is now decisively
below $US50 a barrel and investors across the globe are becoming
more enthusiastic," he said. "Motorists can look forward to petrol
consistently below $1 a litre."

The S&P500 slipped 1.8 points, or 0.2 per cent, to close at
1189.28, the Dow eased 21.3 points, or 0.2 per cent, to 10,471.9,
while the Nasdaq gained 3.84 points, or 0.2 per cent, to
2046.42.

US home-building companies accounted for the majority of the
fall in the S&P and Dow after Federal Reserve chairman Alan
Greenspan told the New York Economic Club that there appeared to be
a bubble in certain sections of the housing market.